Here's a new way to counsel clients on saving for retirement.
In April, TowerGroup, a Needham, Mass.-based research and consulting firm for the financial-services industry, completed a new research report on retirement security suggesting a better way of guiding middle-income (or overspending higher-income) clients during the accumulation years.
Explains Matt Schott, a TowerGroup senior analyst in its Brokerage & Wealth Management research unit, "Longer life expectancies and the specter of 20-plus years of retirement mean individuals must essentially fund a half year of retirement income out of each of their 40 to 45 years of working income. This prospect is daunting for most consumers, to say the least."
The TowerGroup report, titled "Prepurchasing Retirement: Helping Consumers Spend Their Way to Financial Independence," finds that the dramatic disparity between a mountainous retirement goal and the meager savings potential of a worker just starting his or her career is a major psychological barrier to getting an early start on saving. It's the psychological element that the "prepurchasing" strategy seeks to address.
But that's not the entire problem. Hand in hand with this psychological barrier are the obstacles that arise during the process of buying and financing new cars and first homes. Lending discussions for new cars and first homes tend to focus on maximizing spending for these items, says Schott. And why is that? "The reason is found partly with the consumer and partly with the lender. Obviously, the bank or loan company wants to maximize profitable loans on its books. But the consumer plays a role too because he comes into a car dealership with a budget and a certain car in mind, yet sees the car he really wants and is eager to learn how he can afford it."
And dealers, also the lenders in many cases, are happy to assist. Have you noticed how a car's price is less likely to be advertised nowadays than its monthly cost? And, as financial advisors, we all know the variables that factor into a monthly loan payment and how, with careful manipulation, a car "too big" for the client can nonetheless be made to fit his budget by lengthening loan duration or taking advantage of manufacturer interest rate concessions in lieu of cash-back offers.
Says Schott, "Loan terms used to be three to four years; now they're six years. If I get a six-year loan and drive the car for a couple of years, I'll be 'upside down' on the loan. The 'system' is simply stacked against saving for retirement."
And therein lies the problem. The client doesn't think about the future value of the difference between the cost of simple but reliable transportation and the luxury auto they crave. Glitzy advertising and fancy lending schemes don't help him keep his head straight, either. "Some [financial planning] software vendors now make a distinction between the client's basic living expenses vs. her 'joy-of-life' expenses. If those clients are to save more, they should look at things that way. If they're car buying, for example, they should split out the cost of basic transportation from the luxury aspect and its cost, and ask whether they can really afford the luxury add-on."
This is where the prepurchasing strategy comes in. TowerGroup asserts that financial planning--particularly that related to accumulating assets for retirement--would be more effective if reframed around the idea of "prepurchasing" individual years of retirement income. Supplementing the prepurchasing methodology is online bill paying and a re-worked loan approval process. (See a second TowerGroup report titled "Online Bill Payment: Converting the Mass Market from Wealth Consumers into Wealth Creators" for more information.)